Left Coast / Right Coast: Investing 101 - the Stock Markets

Mike Gold in his favorite brand of car. Photo credit: Nancy Gold.

By Mike Gold, A retired entrepreneur living the dream in the Pacific Northwest.

I’ve been a shareholder in the stock market for over 40 years. I can honestly tell you that when it comes to investing, no matter how smart you are, no one has any idea of what will happen on any given day.

For example, let’s look at the market since the beginning of this year (2018). At one point in January, the Dow Jones Index was over 26,000. The Dow had gained over 30% since President Trump’s inauguration in January 2017. Lots of the so-called “talking heads” (the analysts whom you can see on CNBC every day) reported daily, on how well the market was doing. Many of them attributed the rise to what they called “the Trump bump.” That is, the positive attitude of J.Q. Public caused the markets to rise, some say without a legitimate reason for this.

This series of recent downward market moves precisely proves my comment above (no one has any clue what the market will do on a particular day). Many of the CNBC analysts were vaguely talking about a potential “market correction.” That is, a drop in either the DOW or the S&P of 10% or more. While some of them were hinting about such a move, the markets continued to go up day after day. After all, it only took seven trading days for the market to move from 25,000 to over 26,000 in January of this year.

As many of you know, the market did have its 10% correction starting in February. In fact, the DOW dropped by over 1,000 points in a single trading day, the largest drop (in absolute numbers) in its history. It was not even close to the largest percentage drop in history. Both the great depression (the 1930s) and the drop in the great recession (2007-2008) as well as “black Monday – October 1987” all had larger drops percentage wise.

Now what I’ve learned is that on any given day, lots of things can “spook” the market. For example, just last week, the markets recovered almost half of the 10% correction of February. Then the next day, the new head of the Federal Reserve, Mr. Jay Powell, made the mistake (in my judgment) of telling the media that the economy was doing so well, that the Fed might raise interest rates more than the “expected three raises in 2018.” That afternoon, the markets tanked. Now nothing had changed in the economy. It was humming along. But the simple utterance by Powell was viewed as in the near future; profits would be reduced by the “extra expense of borrowing money.”

The main point here is that a “mistake” by Powell, wiped out almost a trillion dollars of stock market valuation. In fact, Janet Yellen, the former head of the Fed, made a similar mistake early in her term. In other words, it doesn’t take much to have “perception become reality” in the market.

Over time, the market makers (investment banks and others), whose motivation is first and foremost “to make money,” have developed hundreds of financial products to allow an investor to be as aggressive or conservative as one would want.

Let’s look at Bernie Madoff for a moment. Madoff started his funds by having friends and family invest with him. As we now know, the entire fund was a giant Ponzi scheme. What is most interesting to me is that Madoff never actually had to solicit investors. As Madoff printed “phony” monthly reports, showing that his funds were returning as much as 20% per year. Once that information got out (mostly by word of mouth) he had to beat new investors off with a stick. Everyone wanted “in on the action.” As the character Gordon Gecko said in the famous movie “Wall Street” Fear and Greed are the only two emotions on Wall Street. That is profoundly true.

So last week, when the Fed Chairman made his pronouncement, at first all the “marginal” investors panicked. Fear was driving them. Thus the market sell off. What is much worse, however, is that all the hedge fund managers, using their high frequency computer controlled trading programs, affected the market even more.

I find these investment instruments somewhat “dishonest.” They are based strictly on fear and greed driving the markets in the short term. They really don’t add anything to market fundamentals. As Gecko said: “I own nothing” and “It’s a zero sum game pal.” Every trade has someone making money and someone else losing it.

The only thing that gives me a bit of comfort is that in the long term, profits drive market valuations. That’s how Jeff Bezos became worth over $100 billion dollars. So it reflects Abraham Lincoln’s famous saying: “You can fool some of the people all the time, you can fool all the people some of the time, but you can’t fool all the people all the time.”

So take comfort that over the long haul, the stock market has consistently returned over 6% per year. In today’s 2% CD market, that ain’t bad. Just don’t check your portfolio every day. It will drive you nuts.